Tax and Spend?

February 5, 2013

Tax and Spend

This is a favorite description of our US government from fiscal conservatives. More correctly, tax, borrow and spend—until a cry for deficit reduction occurs. Deficit reduction means to get a closer match between tax collections and spending so as to borrow less than last year. Political voices (hard to call them leaders) do different math on the problem. GOP tea party math is geared to cutting spending where they do not like it – call that “social programs”. DEMO Math may agree to some cuts but sees social spending and stimulus spending as actually yielding a deficit reduction.

Economists are writing the story from both directions. Austerity measures in math 1 lower the deficit. It is simple, just spend less! In math 2, we see that the government money that would be cut is in virtually everyone’s paycheck. A soldier gets paid and his dollars show up in many more pay checks – a barber for his hair cut, a clerk for checking his groceries, retail stores where he bought his video games and his music. Drastic government austerity would remove money from every paycheck and could cause a meltdown of the whole economy. Math 2 may say that stimulus spending is a miracle. If the dollar moves along enough, the tax taken from the many paychecks is more than the new spending.

More exact math shows that each cycle in domestic spending pulls income tax money out of each paycheck and the total income tax for many cycles is not enough to cover the stimulus spending. Each spending cycle also includes money sent to a foreign government to pay for oil or to pay for a worker in China. Money leaves the system and flows to illegal drug smugglers and is laundered to be spent in foreign countries while incurring no tax liability. My guess is that some of the cash money for drugs comes from earned income tax credits and black market sales of food stamps. This exported money displaces money for a US paycheck.

Only the creation of private sector jobs adds new taxes that are not driven mostly by government spending. The cash to support these jobs can come from less spending on foreign products or the export of American goods and services to countries that have dollars to spend. Some would say that a tax cut adds spending money that creates a new job; however, the tax cut adds to the deficit and is no different than borrowing money for a stimulus package.

A drain on the economy occurs when “spending money” decreases. A worker may have to pay a higher amount for goods and services that provide him with no higher value. A $3-gallon of gasoline provides the same value as a $4-gallon and one less dollar is available for other domestic purchases. Since most people are dependent on cars for moving around, gasoline price is very inelastic. People keep buying almost the same amount of gasoline even when prices increase. A medical procedure that costs more each year can be automatically supported by increased health insurance rates. If a person feels that some medical procedure is needed, the price will not matter. They will spend the money even if they face bankruptcy to pay for the procedure. Particularly in old age, the procedure may not even add value in an extension of good health and life. As these costs grow without limit, there will be less money to buy other things.

In many cases, the government spending on “social programs” has no mechanism to cap the total spending. The programs respond with cash during setbacks to the economy in which more people ask for support and less tax is collected. These programs have the potential to create a “runaway train” in the deficit. The programs have no feedback loop to compare the cost with the value. We can picture that these programs can suck the “spending money” from everything else or create an open checkbook with endless borrowing to pay the cost.

To repeat, only the creation of private sector jobs adds new taxes that are not driven mostly by government spending. Jobs that we all would call a private sector job are not equal in supporting economic growth. As more jobs are ultimately supported by the runaway train, the deficit grows and the US becomes less productive, less competitive and less able to generate real new cash from exports.

A clever slogan is, “cap and trade”. As refers to carbon emissions and the certain science of global warming, cap and trade means that a limit (cap) is set for green house gas emissions and the “rights to emit” are traded in an open market. This approach asks each owner of a source that emits green house gases to define the value for him to emit and be willing to buy extra allowances if his perceived value exceeds the cost of the allowances. The “cap and trade” system would end the freedom to emit unlimited green house gases for free with no regard to environmental impacts. The point of this digression is that the government spending in the runaway train programs needs some kind of cap and trade that caps total spending and adds a cost/benefit feedback loop.

We have reached the roadblock. The elected leaders and individual citizens do not want to accept either kind of cap and trade. Magical thinking of “spend more in a stimulus” or “just stop spending too much”, are on the front page. Powerful people who are getting the cash flow keep their candidates in office. Hard choices are not open for discussion. At this moment, gasoline prices are headed up. To our credit the US is becoming more fuel efficient and importing less oil; however, each extra dollar spent for gasoline will slow the economic recovery. Each dollar cut for austerity will also cost jobs. Each lost job has the potential to move more people to ride the runaway train. Uncapped medical costs, insurance rates, food stamp allowances, earned income tax credits, and unemployment payments prevent any deficit reduction and also make the US less competitive in creating real jobs.

Hard choices need to cap the total cost of government programs in belt tightening that will lower the deficit or more correctly cap the deficit. Well designed program changes can retain some value for those who really need assistance. An incentive to work will result when the safety net life style is not as desirable as a minimum wage working lifestyle. Stimulus spending to improve the US productivity has the potential to create real private sector jobs in which goods and services sell at competitive prices in world markets. Better education has the potential to have fewer minimum wage jobs or higher minimum wages.

Each year as a person ages he lives with more uncertainty for the future. The aging baby boomers will create a swell of elderly people. Good health is a goal for everyone. Allowing medical providers to be honest with patients about future benefits from costly medical procedures is one way to help to cap the costs, particularly for the last months of life. Food and housing will be needed for poor people, the disabled and the elderly. As money is short some quality of life declines must be accepted. A redefines safety net life style will be needed to cap costs. Politically, it is hard to make these changes; economically, these changes are unavoidable.